Subba’s Serendipitous moments

April 14, 2009

Tech Mahindra gets Satyam — Pays more, interesting challenges ahead

Satyam Computer Services ranked as India’s 4th largest outsourcer by revenues (after Infosys, TCS ,Wipro) and which went through some very anxious times following the scandal brought about by its founder has found a new owner.

After a bidding war where only 3 parties participated (Larsen & Toubro, Tech Mahindra and US investor Wilbur Ross), the prize has gone to Tech Mahindra.

Tech Mahindra offer of Rs. 58 per share (U.S $1.16) was 21% higher than the next bidder (Larsen And Toubro who already own a 12% stake) The offer price is also 23% higher than its highest traded price since the news of the scam broke out in early January.

Since the auditors Deloitte and KPMG are in the process of rewriting the accounts it is difficult to value the company. But based on a number of sources, Satyam’s annual revenues are in the range of $1.5 billion -$1.7 billion (down from projected revenues of $2.1 billion for 2008) with an operating margin of 3% while Tech Mahindra’s margins are in the range of 22% with revenues of $900 million. No one knows the extent of liabilities and also the exposure of the firm to some of the class action suits that’s likely to follow in the US.

Hence at the acquisition price, Tech Mahindra has paid a big premium and also brought some big challenges just to add $ 1.2 billion and a 3% margin business. Did Tech Mahindra over value Satyam? I certainly think so.

But as they say Value lies in the eyes of the beholder!

Tech Mahindra will have some big challenges not only in funding the acquisition but also running the Satyam operation. It is one thing to run a business where one client (British Telecom holding a 31% share) accounts for close to 70% of the business and another to deal with a diversified client base with poor operational efficiencies. Tech Mahindra will also have to learn to manage a work force almost twice its own size and dispersed globally.

Tech Mahindra will also have to figure out whether they want to keep this as an independent entity with a different name or do a possible merger. I think the advantages to be gained by an immediate merger may be limited in the short term since there are no synergies to be realized.

None of these challenges are easy. It would be interesting to watch the turnaround.

Satyam caretakers — the interim Board members like Karnik, Deepak Parekh and others did a great job transitioning it from a broken and rudderless ship to finding a good caretaker and owner. The entire Indian IT industry also played a mature role in not poaching Satyam’s clients or its employees.

February 25, 2009

Crisis creates a new consciousness

The picture from the Economist serves  as the perfect metaphor for the current crisis.

Every crisis brings along with it a new consciousness and a completely new perspective.

Individuals who have faced a terminal illness suddenly seem to value life and relationships more. Some turn intensely religious. Life is never the same before.

I think the same could be true for organizations. After a turnaround, most organizations have a renewed sense of purpose. IBM became a world class services organizations after Lou Gerstener came on board in the mid nineties.

I am beginning to slowly think that this is could be true for economies and countries. Liberalization acquired new currency and followers after India faced the economic crisis in 1991. Many “old model” firms died, some refashioned themselves and many new organizations just became global firms thanks to the liberalization. Infosys is one of them.

Now what has changed during the current financial crisis:

  • Nationalization which was so ‘un-American’ has suddenly found eminent backers from Alan Greenspan to Paul Krugman. It increasingly looks like that Citibank may be nationalized any time.
  • Markets are not perfectly efficient and people are not always the best protectors of their own self interest.
  • Belated realization that the CEO compensation and the bonuses for Wall Street traders have contributed to the crisis. When President Obama said that the bonuses handed out by banks represented “the height of irresponsibility” he spoke for a huge silent majority. As Raghuram Rajam says : “At the very least, shareholders deserve better explanations. More generally, unless we fix incentives in the financial system we will get more risk than we bargain for. Unless bankers offer these better explanations, their enormous pay, which has been thought of as just reward for performance, will deservedly come under scrutiny.”
  • The greatest brand names can struggle to survive. Lehman Brothers, Merrill are now consigned to the bins of history and even Citibank are struggling. It pays to be humble.

Can you think of any new consciousness that has emerged as a result of the economic crisis?

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September 29, 2008

The HCL bid for Axon

Filed under: Business,Competition — Subbaraman Iyer @ 9:41 pm
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As was reported here, HCL formally launched an acquisition bid for Axon by raising its bid by 8.3% over the Infosys bid. Infosys will now have the opportunity to increase the bid.

It is quite easy for Infosys to enter into the bidding war given that Infosys is sitting on a cash chest of $1.8 billion. HCL is already stretched because it has only $500 million in cash and this acquisition will be funded by raising debt. Given this debt funding, HCL’s net income will be diluted considerably. In fact, with all the offshoring advantage HCL  has, it is valued at about 12 times EBITDA. It is no wonder that HCL shares plunged by about 12% in a market which was already in a downward trend. Further, Morgan Stanley downgraded HCL from overweight to underweight keeping in view the acquisition risk.

Given that Infosys original offer was itself valuing Axon at 24 times EBITDA, this increased bid will make it even higher for a SAP consulting house. Despite the advantages of being in Europe and some of the intrinsic strengths of Axon, I think this may turn out to be an expensive buy for the eventual buyer — be it Infosys or HCL.

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September 9, 2008

HCL counters Infosys bid

Filed under: Business,Competition,India,Strategy — Subbaraman Iyer @ 6:29 pm
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I didn’t expect a bidding war over Axon.  I thought that it was a done deal. In my opinion, Infosys is already paying a big premium for Axon. Now, the Times of India reports that HCL Technologies is offering a 15% over and above the Infosys bid.

Between the two companies, Infosys at least has a better strategic fit and based on limited information that I know both Infosys and Axon have similar values. HCL Technologies may badly need this acquisition to bolster their presence in the SAP space, but given their management style, it is more likely that some cultural clashes could happen. Result — some of the star employees of Axon could just quit.

Will Infosys get into a bidding war?

It would be interesting to see who gets this expensive prize as Axon’s shareholders could still vote for Infosys bid, the higher price of HCL Technologies notwithstanding.

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August 29, 2008

Infosys acquires Axon

Filed under: Business,Strategy — Subbaraman Iyer @ 12:14 am
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Infosys made another acquisition and this time the size of the acquisition was reasonably big. Infosys acquired Axon which is a listed company in the UK.

Infosys paid US$753.1 million in an all cash deal. The surprising thing about this acquisition is that Axon is just another SAP consulting firm though their revenues have grown quite nicely in the last few years based on the financials here.

I wonder what’s the strategic intent of this acquisition made at a P/E of 20 in a kind of slowing economy. Is it because Infosys needs a stronger presence in UK, where Axon has close to 1400 employees? Is Infosys strategy to move work to India and improve margins?

Shouldn’t Infosys make a more bigger acquisition in an emerging area?

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April 23, 2008

Why is the shift to Wave 3 going to be difficult?

I wish I could share Mr. Sudhakar’s optimism about Indian companies just operating a switch to change their mind set to becoming a thought leader from an order taker. As I responded to him (to his remarks that I have a low opinion of Indian companies) the mind set change is not easy.

I was talking to a couple of friends in the industry, when suddenly the brainwave stuck. My thesis is that there seems to be a particular “Indian mind set” just content with supplying raw material and not getting higher in the value chain. Let me elaborate with a few historical perspectives.

For centuries, India has been selling spices to the world. But do we dominate the food market? Someone packages the spices, gives it brand power and occupies the consumer’s mind share. And the market leader in that area is McCormick that has nothing to do with growing spices.

So has it been in several areas — be it textiles, silk, pharmaceuticals and now software. The pharmaceutical industry for one, have been preoccupied with supplying bulk drugs for decades and it is now that they are slowly venturing into branded drugs albeit reluctantly.Even now most pharma companies are happy to do clinical trials for MNC drug companies, or do contract research.

It is not that the spice traders, or the textile manufacturer or the pharma industry did not intuitively understand the Wave model. They did, they saw margins under pressure, they were hungry for more profits, but they were deeply stuck in their raw material or supplier mind set. I would opine that the same is being replayed in the software services space. One can argue that globalization and the newly discovered passion for success amongst Indian entrepreneurs have changed the equation, but that’s only to a point.

Here’s what I posit: Just because one does exceedingly well in a particular position in the value chain, doesn’t guarantee that one can transition to a higher level in the value chain.

Prof Yves Doz of INSEAD has an interesting framework that explains this. He defines 3 layers of business thinking — the adaptive layer, the experiential layer and the existential layer.

The adaptive layer is the layer, where it is purely supply of commodity goods, with very little value addition, and working on a cost arbitrage or sheer availability. The availability of spices and the availability of cheaper manpower for software services fall in this category.

In the experiential layer, the challenge is to step into the shoes of the customer and create valuable products and services. The classic example is of how Nissan creates a new car for the European market. I would also consider TATA’s introduction of the Nano in this category.

The existential layer is going one level deeper — stepping into the minds of the customer. An Apple or a Nike fully understands the consumer mind — and works backwards to create products or services.

Now, if all these layers can be seen as value chains, one can understand how difficult it is to make the transitions from one layer to another. I would reckon that the ability to go from one layer to another is like crossing the chasm, and simple evolutionary mechanisms would be inadequate.

I am not in any way making a value judgment of the superiority of one layer over the other; it is just that the organizational DNA that one needs to be playing in each of the layers are vastly different and people tend to underestimate the kind of effort, energy and risk as they move from one layer to another.

Prof Yves Doz’s theory is appealing, because it captures the locus of capabilities and limitations very well.

Just as an aside: Faced with a possible slowdown in the West, Infosys’ response has been a traditional Wave 2.1 approach than the Wave 3 approach which Mr. Sudhakar passionately advocates. So has TCS with its Latin America operations.

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April 22, 2008

Wave 3 companies business models for Indian companies

Mr. Sudhakar Ram in a new post has explored different business models for Wave 3 companies. While he has elaborated different options, he has fallen short of making a compelling case for each of the business models. I would also add that some of Indian IT services firms have played in these sand boxes for quite some time, though they haven’t made it their core business.

Secondly, if the Indian IT service firms have to make this transition, it is going to call for a transformational change in approach. It is not that the new business models are flawed, it is the transition that is going to be risky as it would be a roller coaster ride. Since Mr. Sudhakar has opened the dialog here are my comments:

IT Budget owners:

I don’t think the Indian IT service providers have the aspiration to occupy this space, and neither do they have the required ability and bandwidth to do so. Occupying this position needs a lot of lot of domain expertise, breadth and depth of functional knowledge and more importantly the propensity to take risks. Essentially, one has to assume the role of a trusted advisor to the CXO world and may be even to the Board. Even amongst global providers, barring a IBM, Accenture, EDS, CSC and a couple more, few would have the capabilities to stake a claim to become budget owners and take the responsibility to ensure alignment and business impact.

If outsourcing initiatives indeed fail, because of lack of ability of providing alignment and business impact (as Mr. Sudhakar seems to imply), despite the experience and abilities of an IBM or an EDS, I am wondering how would Indian IT service providers fix the problem. Let’s accept the fact that most outsourcing engagements fail, because of a culture clash, the promised cost savings not getting realized and various other conflicts that such a relationship often entails.

Software product providers:

Mr. Sudhakar is right on this one and a number of Indian companies — the likes of Wipro and HCL have been doing it for sometime. Wipro perhaps has a better track record in terms of doing 3rd party software product development right from the 1980s with their InstaPlan product ( a very successful project planning software of the 1980s). They would have easily done this for over 100 companies. This is no different from a typical “IT body shop” (only that it provides higher end engineering services). Yes, Indian companies do enjoy a cost advantage, but these days it is very easy for the overseas company to set up a development outfit in India. So essentially even in this case, it is just labor cost arbitrage, (maybe applied to a different sector), not defining a new line of business.

Software Solution Integrators:

Well, if the track record in the SAP or Oracle or for that matter any package implementation service is any indication to go by, most Indian IT service providers are just routinely satisfied just being SAP certified consultants and “loaning” out people for the major integrators or doing routine SAP implementation. I guess most large multinationals would still trust a IBM, Accenture, Bearing Point to do the higher end work in terms of consulting, process mapping, change management and leave the integration work to Indian companies. In fact, I had the opportunity to analyze the revenue and margin mix at a leading Indian IT service provider and found that over 70% of the revenues and 40% of the profits of the SAP practice team came from maintenance, support service and on-site placement. It is difficult to walk away from such a lucrative, low risk business and ask them to embrace a higher value added, potentially risky segment. In another instance, this Indian IT service provider has a large pool of SAP consultants in a particular area, have done over 50 projects, but still lack the higher end business process knowledge, expertise in change management, maturity in client engagement and related project management capabilities to take on a big consulting firm, despite its track record. They just can’t inspire the necessary confidence and are more more comfortable playing the secondary fiddle.

Platform services:

I agreee with Sudhakar here that it indeed is a very exciting area for Indian service companies. Some like WNS and IBM Daksh have been successful as they developed a complete platform for their respective verticals (travel and insurance respectively), but their ability to expand the platform or build alliances with other players and make it an industry standard has been found wanting. This has deterred other companies from going this route. In fact I would believe this (platform services) would eventually become the natural step in the growth plans for companies which has deep IT skills, domain expertise and BPO capabilities.

As I said in one of my earlier posts, moving beyond Wave 2 to Wave 3 or Wave 2.1 is a business imperative. I know a number of Indian IT services firms are grappling with this issue. Given that they have grown in a reasonable risk averse environment, I do not think they want to adopt something too radical and big, as they are aware they do not have the necessary leadership skills or management expertise to pull this through.

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June 14, 2007

Infosys market cap higher than that of Accenture

Filed under: Business,Competition,India,Model,Strategy — Subbaraman Iyer @ 4:38 pm
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Does anyone realize that Infosys’ market capitalization is higher than that of Accenture, despite Accenture’s revenues being 6X that of Infosys?

Here are the figures:

Accenture (Aug 31, 2006):

  1. Revenues: $18.2 billion

  2. Gross profit: $4.99 billion

  3. Operating income $1.84 billion

  4. Net income $973 million

  5. Outstanding shares 593 million

  6. Market cap (June 12) $23.54 billion

Infosys (March 31, 2007)

  1. Revenues $ 3.09 billion

  2. Gross profit $1.31 billion

  3. Operating income $ 852 million

  4. Net income $ 852 million

  5. Outstanding shares 571 million

  6. Market cap (June 12) $29.12 billion

So, despite the EPS being in the same ballpark, Infosys market capitalization is 20% higher than that of Accenture. This is despite the fact that:

  1. Accenture outsourcing revenues ($6.75 billion) is more than twice that of Accenture.

  2. Accenture has about 80,000 employees in the outsourcing division (out of a total head count of 150,000) while Infosys has about 70,000 employees in the outsourcing division

  3. This implies that Accenture has twice the billing rate per employee compared to that of Infosys.

Despite this, Accenture has only a profit margin of less than 7% compared to Infosys where the profit margin is about 27%, which implies that at the current run rate, Accenture needs to get four times more revenues to get the same net income.

I guess the financial markets are rewarding the Global delivery model, giving Infosys a much better valuation.

Accenture and Infosys comparison chart

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May 29, 2007

Narayana Murthy’s shares his life lessons

Filed under: Business,India,Inspiration,Learning,Stories,Strategy,Winning — Subbaraman Iyer @ 4:59 pm
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Narayana Murthy’s talks on various occasions have always left me inspired. In this talk at the 2007 commencement ceremony at NYU Stern, he highlights the importance of the mind set amongst many things.

He quotes psychologist Carol Dweck and clearly distinguishes between a fixed mind set and a growth mind set. One critical factor that decides whether one can cultivate the growth mind set is the ability to continuously learn — be it from one’s own experience (as Mr. Murthy highlights) or through other sources. I have often found that the courage to reflect and see the experience through multiple view points as the key ingredient in shaping one’s mind set.

Most times we analyze failures not for what it offers as a source of learning, but more often to fix things. While fixing things is necessary, we often ignore what caused the underlying failure and the kind of mind set that led to it. No wonder, sometimes we repeat the same set of mistakes. Worse, few of us even bother to analyze success, because we take it for granted that it was due to one’s abilities. We are often in a hurry to replicate it, without having understood why we succeeded in the first place.

Mr. Murthy also talks about chance events shaping one’s future, something that applies to most of us, though few of us give credit to it.

It is also amazing how he adheres to simple age old values, has his courage of his conviction and does not hesitate to take the big bold step when needed. It is the faith in oneself and of the future that act as the catalyst.

All in all, his advice is relevant not just to the students, but to leaders and managers alike.

Truly spoken as a statesman.

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